Tax Basis for IIT on Equity Transfer Income

Regarding individual income tax (IIT) on equity transfer income, the State Administration of Taxation published the Circular of the State Administration of Taxation on Enhancing the Collection of Personal Income Tax Payable on the Income from Transfer of Equity (Guo Shui Han [2009] No. 285) in May 2009. To clarify some outstanding issues, on 14 December 2010, the State Administration of Taxation issued the Announcement of the State Administration of Taxation on Issues Concerning the Verification of the Taxation Basis of Personal Income Tax Payable on the Equity Transfer Income (Announcement of the State Administration of Taxation No. 27 of Year 2010), which will be executed in 30 days after the date of promulgation.

The new announcement specifies that the income for equity transfer by an individual shall be calculated on the basis of the fair trade price of such transfer and the tax basis for IIT shall be calculated on the basis of the income so calculated. It also clarifies the method of determining and verifying the tax basis in situations where it is obviously low without any justifiable explanation.

PAAT’s Analysis

  1. The equity transfer as specified in the new regulation does not include the transfer of equity in publicly listed companies.
  2. Guo Shui Han [2009] No. 285 only mentioned that, if equity is transferred at par value or a lower price, the tax basis as declared may be regarded as obviously low. The new announcement describes 5 cases in which tax basis is regarded as obviously low, and states that, so long as one case and no “justifiable reasons” can be provided, the tax basis will be regarded as obviously low.
  3. “Justifiable reasons” were not defined in Guo Shui Han [2009] No. 285. In the new announcement, 4 cases of “justifiable reasons” are defined.
  4. According to Guo Shui Han [2009] No. 285, if the tax basis is obviously low without justifiable reason, the tax authorities may refer to the net asset value per share or net asset value of the proportion of shares held by the individual shareholder. However, it did not clarify whether the referred amount is for equity transfer income or equity transfer gains. The new announcement regulates 4 methods for verification of tax basis, the first of which is the method as described in Guo Shui Han [2009] No. 285. It also clarifies that the tax basis thus verified is for the determination of equity transfer income.
  5. The new announcement specifies that it is applicable to natural persons. However, as the enterprise income tax laws and regulations have not clarified the issues regarding obviously low tax basis without justifiable reason in equity transfers, the new announcement may be referred to in determining and verifying the tax basis for equity transfer among enterprises in actual practice as well.

Provided courtesy of PAAT Consulting: